Earnings Reflect Expectations—the
Stock Market Is Fairly Valued
Friday, April 20th, 2012
By Mitchell Clark, B.Comm. for Profit Confidential
The numbers keep pouring in and it’s pretty clear that earnings are a mixed bag. Some industries are doing much better than others. Some companies within a specific industry are doing better than others. The financials are a perfect example. Right now, I’d say the stock market is holding up very well, because the earnings results aren’t really that stellar.
Both International Business Machines Corporation (NYSE/IBM) and Intel Corporation (NASDAQ/INTC) came in just shy of expectations, but they said that they expect business to pick up later in the year. That’s good news, but only if it happens. I think the reason why the stock market hasn’t sold off on current earnings results is that expectations were reduced so much over the last six months. Wall Street earnings estimates have been coming down since the fourth quarter last year. The Street is really only thinking that corporations will generate about 10% in total earnings growth this year and, with valuations reasonable, this stock market isn’t too vulnerable to a major pullback.
The S&P 500 Index is doing fine as long as it doesn’t cross its 200-day moving average. The index is currently trading right around its 50-day moving average and has performed incredibly similar to previous trading action beginning in July of 2009. For the third time since July of 2009, the stock market experienced very strong upside, followed by a meaningful correction, a short period of consolidation, and then a new upward trend. If you pull up a three- or five-chart on the S&P 500 Index, you can see history repeating itself with remarkable consistency.
I think the trend in corporate reporting so far this earnings season will continue. Earnings are good, but not spectacular. Visibility is also good, but not spectacular either. My gut feel is that the stock market will experience a meaningful correction in the near future, likely in tandem with a spot price correction in gold, silver, oil and possibly some agricultural commodities. The stock market isn’t overpriced, so it shouldn’t go down too much on a changing outlook for company earnings. (See Dividends: The Only Way to Keep the Mini Bull Market Alive.) A sovereign debt default in Europe would be more of a shock. I also think that the modestly positive trend in economic news has further legs over the next couple of quarters; therefore, any stock market correction will be temporary.
On balance, my outlook for the stock market reflects the current outlook from companies. It is tepid. There’ll be earnings growth for sure over the coming quarters, but a modest amount of it. The stock market is appropriately valued as far as I’m concerned and a lot more upside from current levels is unlikely.
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